Letter from the Editor

The investors who salivated over dot-com IPOs, expecting to feast on stocks that would earn them millions, are now learning that they might have actually been dining on the financial equivalent of takeaway Chinese: a meal that fills you quickly, yet leaves you hungry shortly afterwards. Put another way, NASDAQ is lettered with the remnants of online businesses that traded high, then faded into obscurity as their equity evaporated.

With cyberspace investments failing to live up to their hype (Pets.com, anybody?), I was relieved to learn of another financial opportunity in an industry you probably know something about: fitness.

In its recent overview of the fitness industry, Banc of America Securities reports, "We believe now and over the next decade this industry will offer several good investment opportunities as the stronger fitness club operators join Bally Total Fitness as publicly traded companies."

In a separate overview, Banc rates Bally as a buy, noting, "We believe the fitness industry is in the early stages of a period of accelerating growth. The confluence of demographics, increased awareness and interest in fitness and capital combine to form an environment that may approach or exceed double digit annual growth (+7-9% is our official estimate)."

What has Banc of America so hot on fitness?

Industry Growth: During the past five years, total U.S. fitness club members have grown about 3.5 percent annually in the United States, while gross membership sales have increased nearly 8 percent. During the same period, the number of fitness clubs has grown at an annual rate of 4.4 percent.

Demographics: Banc of America points out that the baby boomers - with their interest in fitness and large discretionary incomes - will continue to be a major boon for the club industry. Also, the echo boomers (currently between the age of 5 and 23) make up a large population, and could promise even more members for years to come.

In addition to age, the overview examines gender. Specifically, Banc notes that more than half of club members are women - and women are "typically more lucrative customers, buying more ancillary products and services."

Affluence: Club members have money. More than 38 percent of club customers belong to households earning more than $75,000. This income gives members cash to spend on other club services.

Capital: Banc of American expects that our industry will have greater access to capital. Why? One reason is the way that clubs operate. Clubs really don't need to manage any inventory. They sell a service, not a product. That means significant operating leverage, a high level of fixed costs and higher margins. This makes clubs a good investment.

Consolidation: Greater access to capital will allow for more consolidation - and in an industry as fragmented as this one, more consolidation is coming.

While the overview notes that roll-ups and consolidation have failed in other industries - with the pressure of rapid consolidation causing capital expenditures and acquisitions to outpace operating cash flow at a lethal rate - many of these consolidating industries have stagnated. Fitness has not.

While consolidation will push some clubs out of business, this activity will strengthen the surviving players. As companies become larger, borrowing costs drop. They gain greater bargaining power. And as competition disappears, price wars will subside.

Naturally, consolidation can be traumatic, and Banc of America believes that many lower-end clubs won't survive. As middle-tier clubs grow and higher- end clubs experience the most consolidation, the smaller clubs will struggle, according to the overview. Lower-end clubs will either be gobbled up by bigger competitors or close down as members seek larger clubs with better amenities.

That doesn't mean the little guy is doomed. As Banc of America rightfully indicates, clubs sell a service, not a product. Make sure your service is something that members can't live without. That way, you'll be around to experience the bright financial future that Banc of America predicts.

By the way, some of the information in the Banc of America's overview came from Club Industry's Top 100, the annual list that ranks clubs using self-reported revenue. The Top 100 list is a useful tool for investors, research firms and banking institutions, as it gives them a means of gauging our industry. Please keep that in mind when we begin to compile information for the Top 100. We encourage you to take part.